by Murray N. Rothbard
Apart from medieval China, which invented both paper and printing centuries before the West, the world had never seen government paper money until the colonial government of Massachusetts emitted a fiat paper issue in 1690.[1][2]
Massachusetts was accustomed to launching plunder expeditions against the prosperous French colony in Quebec. Generally, the expeditions were successful, and would return to Boston, sell their booty, and pay off the soldiers with the proceeds. This time, however, the expedition was beaten back decisively, and the soldiers returned to Boston in ill humor, grumbling for their pay. Discontented soldiers are ripe for mutiny, so the Massachusetts government looked around in concern for a way to pay the soldiers. It tried to borrow £3,000–£4,000 from Boston merchants, but evidently the Massachusetts credit rating was not the best.
Finally, Massachusetts decided in December 1690 to print £7,000 in paper notes and to use them to pay the soldiers. Suspecting that the public would not accept irredeemable paper, the government made a twofold pledge when it issued the notes: that it would redeem them in gold or silver out of tax revenue in a few years and that absolutely no further paper notes would be issued. Characteristically, however, both parts of the pledge went quickly by the board: the issue limit disappeared in a few months, and all the bills continued unredeemed for nearly 40 years. As early as February 1691, the Massachusetts government proclaimed that its issue had fallen "far short" and so it proceeded to emit £40,000 of new money to repay all of its outstanding debt, again pledging falsely that this would be the absolute final note issue.
But Massachusetts found that the increase in the supply of money, coupled with a fall in the demand for paper because of growing lack of confidence in future redemption in specie, led to a rapid depreciation of new money in relation to specie. Indeed, within a year after the initial issue, the new paper pound had depreciated on the market by 40 percent against specie.
By 1692, the government moved against this market evaluation by use of force, making the paper money compulsory legal tender for all debts at par with specie, and by granting a premium of 5 percent on all payment of debts to the government made in paper notes. This legal-tender law had the unwanted effect of Gresham's law: the disappearance of specie circulation in the colony. In addition, the expanding paper issues drove up prices and hampered exports from the colony. In this way, the specie "shortage" became the creature rather than the cause of the fiat-paper issues. Thus, in 1690, before the orgy of paper issues began, £200,000 of silver money was available in New England; by 1711, however, with Connecticut and Rhode Island having followed suit in paper money issue, £240,000 of paper money had been issued in New England but the silver had almost disappeared from circulation.
Ironically, then, Massachusetts's and her sister colonies' issue of paper money created rather than solved any "scarcity of money." The new paper drove out the old specie. The consequent driving up of prices and depreciation of paper scarcely relieved any alleged money scarcity among the public. But since the paper was issued to finance government expenditures and pay public debts, the government, not the public, benefited from the fiat issue.
After Massachusetts had emitted another huge issue of £500,000 in 1711 to pay for another failed expedition against Quebec, not only was the remainder of the silver driven from circulation, but, despite the legal-tender law, the paper pound depreciated 30 percent against silver. Massachusetts pounds, officially 7 shillings to the silver ounce, had now fallen on the market to 9 shillings per ounce. Depreciation proceeded in this and other colonies despite fierce governmental attempts to outlaw it, backed by fines, imprisonment, and total confiscation of property for the high crime of not accepting the paper at par.
Faced with a further "shortage of money" due to the money issues, Massachusetts decided to press on; in 1716, it formed a government "land bank" and issued £100,000 in notes to be loaned on real estate in the various counties of the province.
Prices rose so dramatically that the tide of opinion in Massachusetts began to turn against paper, as writers pointed out that the result of issues was a doubling of prices in the past 20 years, depreciation of paper, and the disappearance of Spanish silver through the operation of Gresham's law. From then on, Massachusetts, pressured by the British Crown, tried intermittently to reduce the bills in circulation and return to a specie currency, but was hampered by its assumed obligations to honor the paper notes at par of its sister New England colonies.
In 1744, another losing expedition against the French led Massachusetts to issue an enormous amount of paper money over the next several years. From 1744 to 1748, paper money in circulation expanded from £300,000 to £2.5 million, and the depreciation in Massachusetts was such that silver had risen on the market to 60 shillings an ounce, ten times the price at the beginning of an era of paper money in 1690.
By 1740, every colony but Virginia had followed suit in fiat-paper-money issues, and Virginia succumbed in the late 1750s in trying to finance part of the French and Indian War against the French. Similar consequences – dramatic inflation, shortage of specie, massive depreciation despite compulsory par laws – ensued in each colony. Thus, along with Massachusetts's depreciation of 11-to-1 of its notes against specie compared to the original par, Connecticut's notes had sunk to 9-to-1 and the Carolinas' at 10-to-1 in 1740, and the paper of virulently inflationist Rhode Island to 23-to-1 against specie. Even the least-inflated paper, that of Pennsylvania, had suffered an appreciation of specie to 80 percent over par.
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